The firm says it sets a minimum weighting target of 90 percent for the first category, although during the week under review it appears that the covered bonds owned by MTA, which included issues from German, Spanish, Dutch and Austrian banks, represented slightly more than 10 percent of MTA’s assets in aggregate. The bonds owned by MTA also varied in maturity, with one extending to seventeen years, well beyond the maturity profile of the index. Overall, MTA’s bond holdings were heavily weighted towards agency and municipal debt issues, which are generally regarded as less liquid than mainstream sovereign bonds.
During the five-day period surveyed, Amundi’s short-maturity bond tracker, C13, owned more sovereign (i.e. central government) debt issues than Lyxor’s MTA. However, the Amundi fund also owned some agency bonds and bank-issued covered bonds. The most notable mismatch between C13’s holdings and those of the index, however, came from a heavy aggregate fund weighting in zero coupon bonds, often of long maturity. The fund also had a significant overweight position in Italian government debt when compared with the index.
The issuer sets a minimum ratings requirement of BBB- for asset eligibility in its eurozone bond ETF, said Valérie Baudson, Amundi’s managing director, while also monitoring the fund holdings’ correlation with the index, their diversification and liquidity, she added.
Comstage’s decision to hold European equities as its bond trackers’ assets is motivated by considerations of tax efficiency for the ETF issuer’s largely German client base, explained Arne Scheel, who is responsible for sales to institutional clients at the firm. Holding equities rather than bonds as fund assets allows investors to delay recognition of an income-related tax liability until the fund is sold, Scheel said. Scheel acknowledged that holding a basket of equities to track a bond index presents correlation risks, but argued that collateralising the Comstage fund’s swap exposure via additional holdings of German government bonds is a significant mitigating factor.
Does All This Matter?
What an ETF actually holds, rather than what it tracks, may seem of secondary importance to most owners of these funds. However, in extremis, it’s the actual assets of a swap-based fund which make sure that investors can be repaid their money. Likewise, if fund holdings are lent out in a physically backed ETF, to whom assets have been lent and what collateral has been taken in return could be of critical importance.
This survey of a small subset of Eurozone government bond ETFs and our analysis of the key mismatches between individual funds and the indices they track is necessarily incomplete. A full investigation of the differences between index holdings and fund assets (and of their implications for fund risk exposures) would require a detailed examination by specialists in securities finance. Such analyses seem increasingly necessary, and not just for this category of fund.
As far as trackers of Europe’s government debt markets are concerned, investors should undoubtedly pay attention both to the structural, as well as the investment exposures of their funds. With sovereign and banking sector risks now closely intertwined, it would seem foolish not to do so.